Pilak Company has P12 million in assets. Currently half of these assets are financed with long-term debt at 10 percent and half with ordinary shares having a par value of P8. Ms. Santos,vice-president of finance, wishes to analyze two refinancing plans, one with more debt (D) and one with more equity (E). The company earns a return on assets before interest and taxes of 10percent. The tax rate is 45 percent.

Under Plan D, a P3 million long-term bond would be sold at an interest rate of 12 percent and375,000 shares would be purchased in the market at P8 per share and retired.

Under Plan E, 375,000 shares would be sold at P8 per share and the P3, 000,000 in proceeds would be used to reduce long-term debt.

REQUIRED:

a.How would each of these plans affect earnings per share? Consider the current plan andthe two new plans.

b.Which plan would be most favorable if return on assets fell to 5 percent. Increased to 15percent? Consider the current plan and the two new plans.

c.If the market price for ordinary shares rose to PI2 before the restructuring which plan would then be most attractive? Continue to assume that P3 million in debt will be used to retire stock in Plan D and P3 million of new equity will be sold to retire debt in Plan E.Also assume for calculations in part c that return on assets is 10 percent.